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 THE ABC OF... |
ABC of...CFDs
Selecting the right CFD provider
CS journalists
If you think you've got the nerve and skill to trade contracts for difference (CFDs) then the next step is to find yourself a CFD provider. But because CFDs are a relatively new product, not all online brokers have tacked them onto their product lineup just yet. So even if you already have an online broker, you might have to find yourself a separate firm to trade CFDs.
Our comparison table lists all Australian CFD providers and compares them across costs, features and markets. But before you race ahead and get comparing, it's important to realise that not all CFD providers are alike. And we're not just talking about differences in commissions or markets, but, more importantly, the underlying mechanics of how you trade CFDs. This is an issue that impacts the prices you receive on a CFD trade and its liquidity. But more on this later.
First up, let's start with the basics of CFD trading and take a look at how you compare costs.
A. Costs
When you trade CFDs you will fork out money to the CFD provider in a couple of ways. Firstly, just like shares, you pay brokerage (or commission) to the CFD provider each time you buy and sell a CFD. In the comparison table, we compare commissions at different sized trades, so that you can get a feel for how each provider charges. The nice thing about CFD trading is that when you short a CFD - sell with the intention of buying it back at a lower price to profit from a price fall - you pay the same brokerage as when you buy it. This makes life easier for those who like to go long as well as short.
Just as you pay interest to the bank to buy a property, or interest on your margin loan, when you buy a CFD, you are effectively taking out a loan with the CFD provider, which incurs interest as well. The table details interest costs to buy CFDs, as well as interest costs to short. Remember that when you short a CFD, the CFD provider pays you interest, so the higher the interest the better. When you sell a CFD the lower the interest cost the better for you.
Most CFD providers will charge a monthly account fee for live market data. This payment is a charge issued by the ASX and CFD providers simply pass it onto you, the investor. Frequent traders may be able to get this fee waived if they press their broker hard enough.
B. Features
Types of CFDs
CFDs don't come out of the same box, and neither do CFD providers. But if we had to box them, we'd probably have to separate them into two different boxes - let's say an orange and yellow box. The comparison table lists the type of CFDs offered by each provider.
The orange box is the direct market access (DMA) model of CFD trading. DMA simply means that when you buy and sell a CFD - your order is placed as a share trade through the exchange. In other words, the order appears in the bid and ask queue on the Australian Stock Exchange (ASX). This means that you can actually see your trade sitting in the SEATS (Stock Exchange Automated Trading System) queue and watch it being executed. This means that you're guaranteed of being "filled" at the identical exchange price and the market liquidity offered is the true liquidity pool of the ASX.
The yellow box is the market-maker model. Here, the CFD trades you submit are not always placed through the ASX but instead a synthetic market is created. This means that you will be quoted a bid and ask price and the volume you can trade. Orders are filled when the bid price moves to the ask price (or the ask price moves to the bid price), which is technically termed "crossing the spread". Since "market makers" do not always hedge trades in the underlying market, you are not always guaranteed the identical exchange price, or the true liquidity pool of the ASX. Nevertheless they have the ability to offer more liquidity than the underlying market.
Minimum opening balance
Minimum account balances to trade CFDs can range from zero (you can make your first trade with your credit card) to $10,000. Most providers will let you transfer your minimum account balance by BPAY, bank transfer or cheque - with funds taking up to two business days to be cleared.
Trading platform
CFD providers will offer web (browser-based) or software based trading platforms. Web-based platforms are simply accessed via the Internet with your account name and password - whereas software based platforms are emailed to you as a link to be downloaded and installed on your computer at home or in the office.
Guaranteed stop losses
Some traders don't trade without a stop loss in place. The more nervous will use a guaranteed stop, which offers that bit more protection. Many regard them like an insurance premium. Guaranteed stop losses offer more protection than stop losses since, as the name suggests, they absolutely guarantee that you'll be shoved out of the trade at the price you requested. For example, say you buy shares in XYZ Corporation at $17 and place a guaranteed stop loss at $16.50. In the event that the market slipped to $15 - without ever trading at $16.50 - a guaranteed stop loss will get you out at the $16.50 exit price, but a stop loss won't.
For this extra level of protection, some CFD providers charge a premium.
C. Tradeable markets
Some brokers will let you trade CFDs on just about anything - from the Hang Seng index to pork bellies. You name it - you can trade it. Admittedly, the ability to trade such an enormous range of markets is an advantage that CFDs possess over products such as share trading.
The most popular markets to trade are chiefly Australian and international shares and indices, and then margin FX. Commodities such as gold and crude oil are also popular. The table lists the markets offered by each provider.
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